Volatility and Revenue Forecasting Errors

Last month, the Pew Center on the States together with the Rockefeller Institute of Government issued a report on trends in revenue forecasting, in which Oregon and its kicker law played a central role (“States’ Revenue Estimating: Cracks in the Crystal Ball”). Despite several references to our state, it would be dangerous to base any policy prescriptions for Oregon’s tax structure or forecasting processes on the study results….

…It only takes a quick look at the estimates of forecast errors produced in the study to confirm that volatility of revenue streams is a major determinant of interstate differences in forecast accuracy….

…major revenue streams bounce around twice as much in California and Oregon as they do in New York and Illinois.

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This information is most relevant if we know that forecasters are explicitly trying to produce unbiased estimates. As someone involved in local government revenue forecasting, I know that the consequences of forecast errors can be asymmetric. That can result in a forecast at something less than the 50th percentile. Do you think that happens at the state level?

Unbiased revenue estimates are important in that they facilitate political consensus building, and can influence the attitudes of investors. Bond ratings agencies have looked favorably upon Oregon’s use of an independent, nonpartisan and objective office to produce its revenue estimates. For an excellent recent academic paper on the subject, see: “Political distortions in state forecasts”, Richard T. Boylan, Public Choice 136 (2008).

It is true that revenue forecasting errors have different implications on the upside than on the downside. Notably, underestimates of revenue have different consequences in Oregon than in other states. Given Oregon’s kicker law, unexpected budget surpluses are returned to taxpayers rather than being allocated by policymakers.

[…] – All of this said, the jump in the 2015 Oregon data should have set off some data analyst’s Spidey sense. For folks like Pew, trying to upgrade their state comparison work, something like that would be a natural place to dig into the data to understand what is happening. Figuring out why different states are seeing better or worse growth would add tremendous value. They’re just not doing it now, nor did they previously when looking at state revenue forecasting. […]